The new year is as good a time as any to explore thorny issues. While browsing yet another incident about flash floods all over Singapore, the (thankfully dry) curiosity gene in me wondered about the thorniest problem of all in the insurance industry.
Vested. Self. Interest.
Inherently this is manifested in the commissions model, where Financial planners are only paid when products are bought from them. (The more you buy, the more they earn)
Every other professional that we work with: say doctors, lawyers, accountants for example, are expected to act in our best interests. We pay them a fee and expect unbiased professionalism in return.
With commission based advisors, there is always lingering question as to who they are ultimately looking out for: my family or their own. It does seem that this model relies heavily on the pure altruism of the advisor in question in order for the client to benefit. (A little like expecting people to obey the law without having laws)
Majority of commission-based agents and brokers are no doubt sincere people earning an honest living. But there is something to be said about good intentions melting away in the face of repeated temptation.
On the face of it, product commissions does appear to be a backhanded (possibly outdated) method to acquire comprehensive wealth planning.
If we could move a step towards the right direction, would Fee Based Advisory (FBA) be a possible alternative?
My idea of the ultimate Fee Based Advisory would be a Planner or Agent that is paid upfront by a client ONLY, and receives no other compensation (monetary or otherwise) from the ensuing product sales. Of course there are other variants, some along the lines of the Advisor also receiving (partial) incentives for the resulting sales, but rebating the client a portion of the commission.
But you get the idea. The emphasis is payment made for advice, not for product sale. I am particularly attracted to the concept of properly incentivizing a person for a desired outcome, instead of leaving it to willpower and motivation to do the right thing.
Here are some arguments for – and against – the implementation of Fee based advisory.
Fee-ling Good: Why Fee Based Advisory is the best thing since sliced bread
The Vaporization of Moral Hazard
Its true. Exaggeration does grab attention. I suspect much coffee was spilt by many a commission based advisor in indignation. (What moral hazard! I give my whole life to my clients ok! I service their policies long long!)
Ah well but there is no denying the grain of truth in here. For the consumer, they don’t have to worry about being taken for a ride and getting products they don’t need, and in amounts that are non-nonsensical. Unless your fee based advisor hates your guts.
Strangely enough there is also a growing camp of financial planners that actually embrace the concept of fees as well. To them, it removes the pressure of doing sales and actually focusing on advice. Some of them are terrible sales people but give top notch financial advice.
When the moral hazard of inappropriate compensation is removed, this shifts the industry to one that is product oriented to process oriented, which encourages a long term relationship.
Lower Cost to the Consumer
Especially true for the high net worth clients – whose premiums may run into the hundreds of thousands annually. Having to pay a fixed cost vs a percentage of those premiums makes monetary sense.
This is also why many commission based advisors are clamoring to serve rich clientele – the pickings are simply richer, for the same amount of work and documentation done. (They would in turn argue that the richer clients have more complex needs.) To that I would say: Some lah, not all. Exaggeration is a tool anyone can use.
Opens up a broader scope for Financial activities/services provided
Surprise surprise! There are plenty of other financial services that do not entail commission, and Fee Based Advisory makes it more likely that they see the light of day.
These services include:
Financial Ratios analysis
Which ETFs to invest in (the advisor doesn’t take a cut)
Wealth Distribution and Legacy Planning
Again, there would be a number of commission based agents protesting that they do these things for their clients as well. I would think that is the case, but not without first selling their clients a couple of policies. (or selling them later). A commission based agent that doesn’t sell is a broke one. Not the case for a fee based advisor.
My personal favorite! I love it when things are clearly and simply laid out (ClearlySurely.com!). With a fee structure, you know exactly what you are paying for , instead of the costs being muddled into the product. Not everyone checks the distribution costs table diligently, nor do they have anything to say about it.
Fee-ling Bad: Why Fee Based Advisory should not be touched with a 10 foot pole
People dislike the idea about paying for something that should be “free”
One of the biggest arguments against a pure fee based practice is that majority of the people are simply not willing to cough up an upfront cost, since they do not have to pay for anything if they decide not to take up any policy. This could reduce the amount of people seeking advice, and subsequently leave them under-insured.
Insurance Incumbents hate the idea
Oh yes let us not forget the folks that have the most skin in the game. The big boys have plenty of things to say against a mandatory fee based regime, when MAS (mistakenly) sought their opinion a couple of years earlier. Among the reasons cited:
- Many people will be left under insured
- Plenty of agents will leave the industry, and the population will be under-served
- Fee Based production is not a meritocracy
- Fee Based systems work fine in other parts of the world, but will not work in Singapore (due to nuances in buying and also in financial systems)
- Advisors will then do the bare minimum if paid a salary (under the fee based regime,akin to communism)
I think these are all valid concerns, no doubt. But some how i think the biggest concern of all was not brought out into the open – which was about profitability. A fee based system is definitely not as profitable as compared to a commission system (a meritocracy, in their own words). A lowering of premiums (removal of commissions) would mean less people wanting to sell them, and lower margins.
Nothing against profitability (insurers need to stay solvent and profitable for the policies to be honoured), but I do take notice of excessive profitability. Case in point: Singapore is home to over 18 Life Insurance companies and counting. That underscores my profitability point just fine.
Expensive for lower income earners
This is a counter point to fee based advisory being more cost sensible for higher income earners. For lower income earners, their coverage needs would be lower, and hence may pay out a disproportionately higher amount under a fee based scheme.
While not absolutely true (there could be lower fees charged), this also might be one of the bigger hurdles to implementing a pure fee based advisory system – the people who need financial protection the most will not have access to it, or have to fork out more than they have to.
Our take on the whole matter
There is absolutely no way to prove the above points right or wrong. There will always exist a grey area where it is fuzzy, and impossible to suss out the truth. From here you know that we do not deal in absolutes, so by extension we are not Sith lords.
Its important that you know that. (about the grey areas, not the Sith lord thingy. Just popped into mind for no particular reason.)
After all’s said and done, it can’t really hurt to shift. Even if the shift is done slowly. That shift already exists today – and we expect the momentum to grow even more in the future as the populace gains more financial sophistication. There are more and more agencies and agents themselves shouting their fee based scheme – but to date we have not seen a single agency or agent proclaim loudly that they only take commissions!
Our prediction here is: As more and more agencies are exploring a purely fee based advisory system, there will be growing acceptance. And once the early adoption phase is complete, the early majority and late adopters will follow suit in time to come.
So really, it doesn’t matter in the slightest what we think: The market place will just play its hand accordingly. Our money is on the widespread acceptance of fees in lieu of commission within the next decade.
For once MAS should be grateful for progression in a uniquely Singaporean fashion. They don’t have to be the bad guy who forces change upon an unwilling industry. We are kiasee, kiasu, but we adjust and improvise bit by bit. It will be interesting to see how it all unfolds, towards a likely improvement.
Just like how PUB promises an improvement in drainage after every flood.
www.ClearlySurely.com aims to eradicate the knowledge gap between consumers and Life Insurance. Our Vision is that one day, every Man, Woman, and Child will be properly insured.
If you have strong ideas on how or why Fee Based Advisory will or won’t work, we want to hear them in the comments below. Any ideas on how to unclog our drains so “ponding” incidents will stop: please share them as well. We are just as passionate about insurance as keeping our toes dry.